Perhaps another argument to paying off home?

[daylatedollarshort]

Paying off our mortgage would have decreased our after tax money and made it harder for us to qualify for ACA tax credits. We've come out ahead on the investment ROI plus tax credits (currently around $1.3K a month).

 

[O2Bfree]

i paid my house of decades ago (at 32 yo) and did not get sucked into the move up fad.

On our last move in 2003, we moved to a smaller home, from 2000 sqft down to 1500 (which we paid off in 2006). When people heard we were moving, the typical comment was, "Oh, into a bigger place, huh?" I enjoyed their puzzled looks when I told them no, a smaller place.

 

[Cobra9777]

I suppose I "get" the theoretical point that a mortgage obligation is like an anti-bond. Just not following the OP's logic on why that is "perhaps another argument" for paying off a mortgage. Can someone help me connect the dots?

 

[Danmar]

I suppose I "get" the theoretical point that a mortgage obligation is like an anti-bond. Just not following the OP's logic on why that is "perhaps another argument" for paying off a mortgage. Can someone help me connect the dots?

I think he might be trying to make the case that having a mortgage effectively reduces your fixed income asset allocation. Easy to fix of course, simply buy more bonds and sell equities. The problem with this solution is the bonds typically pay less than the mortgage cost. So if you want to keep your AA steady and keep your overall risk in accordance with your appetite, it will cost you in income. Ignoring any tax effects of course.

So people who say. "Surely I can do better in the stock market than my mortgage rate" are totally missing this point. Perhaps another reason to pay your mortgage off.

 

[Cobra9777]

I think he might be trying to make the case that having a mortgage effectively reduces your fixed income asset allocation. Easy to fix of course, simply buy more bonds and sell equities. The problem with this solution is the bonds typically pay less than the mortgage cost. So if you want to keep your AA steady and keep your overall risk in accordance with your appetite, it will cost you in income. Ignoring any tax effects of course.

So people who say. "Surely I can do better in the stock market than my mortgage rate" are totally missing this point. Perhaps another reason to pay your mortgage off.

Thanks. That makes more sense to me than the OP.

So... if I had a $1M portfolio (60/40) and a $100K mortgage, in effect I would be 67/33 ($600K equity and $300K bonds+mortgage). To get back to 60/40 (my desired AA), would require selling $60K of equity and buying $60K of bonds, resulting in $540K/$360K (60/40). And ignoring the mortgage, the actual portfolio would be $540K/$460K (54/46).

I'm just not sure that a mortgage holder at 54/46 is going to give up much if anything, compared to a non-mortgage holder at 60/40. I've seen FIRECalc success rates that don't vary materially from 30/70 to 70/30. So I can't imagine 5 or 6 points difference in AA would matter much in the long run.

I think the mortgage holder is far more likely to outperform the mortgage rate even with some minor impact from holding more bonds. Of course that assumes the mortgage is 10% of portfolio (my example). I suppose a larger % could make a larger impact and could possibly influence the decision on whether to continue holding the mortgage.

Interesting to think about.

 

[HFWR]

Most of my stash is in tax deferred, so I would take a huge tax hit if I pulled out enough to pay off the mortgage. Therefore, I haven't, and won't...

 

[Just_Steve]

Most of my stash is in tax deferred, so I would take a huge tax hit if I pulled out enough to pay off the mortgage. Therefore, I haven't, and won't...

My issue also. Besides the fact that my interest rate is only 2.75%

 

[Koolau]

Most of my stash is in tax deferred, so I would take a huge tax hit if I pulled out enough to pay off the mortgage. Therefore, I haven't, and won't...

Until RMDs, heh, heh. Just started RMDs and though still manageable, my experience suggests starting to manage well before RMDs begin. I worked hard at getting "rid" of deferred money ahead of RMDs and I STILL have enough that I may run into not only tax issues in the future but the "gotchas" of MC fees, SS taxability, etc.

While you are in the driver's seat, this could be a good time to pull out a manageable amount from deferred (either to Roth it or to pay down mortgage - or just take a trip to France.) Just a thought as YMMV.

 

[Koolau]

It's one of mine also, since having to increase your income to make the mortgage payment raises your AGI resulting in higher taxes.

IIRC Laurence Kotlikoff and Scott Burns spend the better part of a chapter in their book THE COMING GENRATIONAL STORM talking about the issues surrounding having a mortgage or paying it off. They came down on the side of the paid off mortgage. One of the issues is AGI but there are others. Depending on the situation, having the mortgage (thus having to fund its monthly payments) was a significantly more costly retirement strategy than early pay off. They discuss other advantages to the retiree for having a paid off mortgage. Don't recall the details but recommend the book (and not just for the mortgage part.) YMMV

 

[Danmar]

Thanks. That makes more sense to me than the OP.

So... if I had a $1M portfolio (60/40) and a $100K mortgage, in effect I would be 67/33 ($600K equity and $300K bonds+mortgage). To get back to 60/40 (my desired AA), would require selling $60K of equity and buying $60K of bonds, resulting in $540K/$360K (60/40). And ignoring the mortgage, the actual portfolio would be $540K/$460K (54/46).

I'm just not sure that a mortgage holder at 54/46 is going to give up much if anything, compared to a non-mortgage holder at 60/40. I've seen FIRECalc success rates that don't vary materially from 30/70 to 70/30. So I can't imagine 5 or 6 points difference in AA would matter much in the long run.

I think the mortgage holder is far more likely to outperform the mortgage rate even with some minor impact from holding more bonds. Of course that assumes the mortgage is 10% of portfolio (my example). I suppose a larger % could make a larger impact and could possibly influence the decision on whether to continue holding the mortgage.

Interesting to think about.

Yes, I think that is the point here. Agree for most people it isn't a huge issue and probably points out more the imprecision of AA percentages, eg a few % points doesn't make much difference. I think the debate about pensions and AA is probably more substantive. But as you say "interesting to think about". Bottom line is keeping your mortgage will increase your risk (everything else staying the same). Surely everyone knew that?

Another interesting thing to think about is the apparent use of Firecalc by some people to set their AA. Eg maximize their success % by changing their AA, this seems a little backwards to me, but again, probably not that much of an issue since the Firecalc results are similar across a fairly wide band of AA's.

 

[pb4uski]

Yes, I think that is the point here. Agree for most people it isn't a huge issue and probably points out more the imprecision of AA percentages, eg a few % points doesn't make much difference. ....

+1 If I include my mortgage in my AA as some suggest my 60/35/5 changes to 65/30/5..... so not a big deal.

 

[rayvt]

you really need to look at your mortgage obligation as part of your bond allocation, as in theory, you need a reliable/dependable return to match up with your fixed mortgage payment

No, a house isn't any part of your investment asset allocation. A house is a consumption item, not an investment

Don't overthink it and try to force something into the stock/bond framework that doesn't fit there.

You also need a reliable/dependable return to match up with your grocery bill, your car payment, your electric bill, etc. Do you consider them part of your asset allocation? No. A bill is just a bill. You just need the income to pay the bill.

If you want to pay your mortgage off, just make the decision and pay it off. Don't make up some phony bullsxxx reason, just do it because you want to. You don't have to justify it, any more than you have to justify what to have for dinner. Just do it because you want to and you can afford it.

Because from a pure financial point of view you should have the longest fixed-rate mortgage you can get. Financially, allocating a large chunk of your net worth into one specific piece of illiquid real-estate is not a good strategy.

 

[rayvt]

"it's especially nice when reading the doom'n'gloom on the news and financial pages. I can even read Nouriel Roubini articles without freaking out. With a very low cash flow requirement for bare bones existence..."

You know, if the banking system crashed into a smoking ruin, there will be nobody to send your mortgage payment to. And also nobody to come and foreclose on your house if you don't send the payment.

Gold & silver won't do you any good either. (Lead and brass will be more useful.)

 

[Koolau]

You know, if the banking system crashed into a smoking ruin, there will be nobody to send your mortgage payment to. And also nobody to come and foreclose on your house if you don't send the payment.

Gold & silver won't do you any good either. (Lead and brass will be more useful.)

There are plenty of doom and gloom scenarios that don't end with the banking system in smoking ruins. For doom and gloom, I'd settle for the stagflation of the 70s/80s. Hardly the end of the banking system but very painful - especially if you're retired. YMMV

 

[Markola]

They came down on the side of the paid off mortgage. One of the issues is AGI but there are others. Depending on the situation, having the mortgage (thus having to fund its monthly payments) was a significantly more costly retirement strategy than early pay off. They discuss other advantages to the retiree for having a paid off mortgage.

But if early payoff requires pulling $ from tax deferred accounts, because that's where the bulk of one's assets are parked, what is a good strategy for doing so? Is it the same calculation as a Roth conversion, only you put the converted $ toward the mortgage instead of a Roth? Has anyone here done it?

Our mortgage balance is $280,000, which would take $450,000 ballpark to generate the principle and interest payments sustainably at a 4% SWR, so there is some short term appeal to paying it off, which I realize dissipates longer term as that $450,000 "endowment" grows faster than the mortgage payments.

 

[Danmar]

No, a house isn't any part of your investment asset allocation. A house is a consumption item, not an investment

Don't overthink it and try to force something into the stock/bond framework that doesn't fit there.

You also need a reliable/dependable return to match up with your grocery bill, your car payment, your electric bill, etc. Do you consider them part of your asset allocation? No. A bill is just a bill. You just need the income to pay the bill.

If you want to pay your mortgage off, just make the decision and pay it off. Don't make up some phony bullsxxx reason, just do it because you want to. You don't have to justify it, any more than you have to justify what to have for dinner. Just do it because you want to and you can afford it.

Because from a pure financial point of view you should have the longest fixed-rate mortgage you can get. Financially, allocating a large chunk of your net worth into one specific piece of illiquid real-estate is not a good strategy.

I think you may be missing the point that a mortgage is different than the underlying real estate. Agree that the real estate is a place to live but the mortgage is a fixed rate loan, ie "negative bond". This will affect your AA and your overall risk.

 

[pb4uski]

I think you may be missing the point that a mortgage is different than the underlying real estate. Agree that the real estate is a place to live but the mortgage is a fixed rate loan, ie "negative bond". This will affect your AA and your overall risk.

A view could be that a mortgage is "negative real estate" rather than a "negative bond"... IOW your investment in your home is your net equity, not the home's value. Since you "own" only part of your home, on the part that you do not own you pay mortgage payments, property taxes, insurance, maintenance, etc. in lieu of rent.

IOW, a home is an "operating" asset rather than an investment since you need to live somewhere. The fact that a home might appreciate is just a second order effect.

Others view a home as an investment and the income from the investment not having to pay rent but they don't adequately consider the opportunity cost their investment in the home which make is a wash economically.

The whole question of the impact of a mortgage on AA is a bit academic in most cases as the impact on success rates of a relevant range of AAs is quite modest. For example, in my case my mortgage and car loan would affect my AA by about 5 points... and even if I refinanced to 80% of FMV it woudl be less than 10 points so the risk isn't significantly different.

 

[Danmar]

A view could be that a mortgage is "negative real estate" rather than a "negative bond"... IOW your investment in your home is your net equity, not the home's value. Since you "own" only part of your home, on the part that you do not own you pay mortgage payments, property taxes, insurance, maintenance, etc. in lieu of rent.

IOW, a home is an "operating" asset rather than an investment since you need to live somewhere. The fact that a home might appreciate is just a second order effect.

Others view a home as an investment and the income from the investment not having to pay rent but they don't adequately consider the opportunity cost their investment in the home which make is a wash economically.

The whole question of the impact of a mortgage on AA is a bit academic in most cases as the impact on success rates of a relevant range of AAs is quite modest. For example, in my case my mortgage and car loan would affect my AA by about 5 points... and even if I refinanced to 80% of FMV it woudl be less than 10 points so the risk isn't significantly different.

Agree that the effect is academic,mostly, and not significant for most people. If you had a big mortgage in relation to your portfolio it would be more important. Keep in mind that your AA should be dependant on your risk appetite rather than just an input to Firecalc.

On the other hand a mortgage definitely does not display the characteristics of "negative real estate". The amount owing and interest rate is fixed on a mortgage whereas real estate fluctuates in value. Thus a mortgage has many characteristics of being short a bond or "negative bond". As I mentioned in a previous post, you might be able to view your home as a capitalized stream of future rent payments, but that really seems a little far out there for me, at least in terms of your AA.

 

[RunningBum]

A view could be that a mortgage is "negative real estate" rather than a "negative bond"... IOW your investment in your home is your net equity, not the home's value. ...

Not unless you also consider a margin loan on your investment account as "negative stock". That's not a good view because you have full volatility of the entire stock investment, just like a house has the same volatility whether you have a mortgage or not.

...

Others view a home as an investment and the income from the investment not having to pay rent but they don't adequately consider the opportunity cost their investment in the home which make is a wash economically.

I keep saying this but some people keep ignoring it. You have to live somewhere, but it doesn't have to be in the same value place as you live today. I didn't buy my house as an investment but I've always had in mind I can downsize if I see I am going to run out of money somewhere down the line, so it's not a wash. And just as a side note, anytime I feel foolish about buying a lot more house than I need, I remind myself that I cashed out stock options very near the top of the dotcom bubble, so in that sense I got the house at a huge discount.

Another way to look at this. A few years back, I had a 7 year window where I was living in two places seasonally. I knew it would end in about 7 years one way or another. I rented for a couple years and then bought a house at the second location. I always considered that home as part of my investment nest egg because I knew I was very, very likely to sell that one at the end of the 7 years, which I indeed did.

I don't see a great deal of difference between that and having a $1M house today, with a plan to downsize to something in the $300K range later. I have to live somewhere, but it doesn't have to be in a $1M house (not my actual numbers, btw). I choose not to treat that 700K difference as an investment, because I don't know what I'll really live in, and I don't know for sure I'll ever move, but I can see how someone would. I just choose to treat it as buffer for my plan.

The whole question of the impact of a mortgage on AA is a bit academic in most cases as the impact on success rates of a relevant range of AAs is quite modest. For example, in my case my mortgage and car loan would affect my AA by about 5 points... and even if I refinanced to 80% of FMV it woudl be less than 10 points so the risk isn't significantly different.

It'd be more for me. I don't think it's a large impact, just as there's probably not a huge difference between a 50/50 and 70/30 AA, but I don't think you can say someone with a paid off house and someone with significant mortgage with the ability to pay it off are in the same situation if their AA is the same.

 

[Surewhitey]

We bought back into real estate (our home) exactly 2 years ago in the heart of Dallas. Two thoughts on this...

We paid cash to avoid all the closing costs (2-3%) and our cash wasn't earning bumpkis in CD's as they had all come to maturity at almost the same time. I think this was a good plan for us as we didn't know how long we were going to live here. If you are unsure, I think this is an expense to take into consideration. Plus, it gave us an advantage, IMO, with an offer made in cash. We feel this made us a $20k savings in our circumstances (the widower didn't want to show his home and the need to keep leaving / coming to do so and we were flexible on his move out date).

In response to a house not being "an investment"...I typically agree and do say this, but this house has appreciated 10%+ for 2 years now and I'm happy to "not" call that a good investment. We will cash out in the next year or so and reduce our home costs (move to a more affordable area) and bump up our cash account...

 

[Badbreath]

I payed off my 15 year mortgage in 15 years. funny how that works.

 

[Montecfo]

I think it is indeed logical to view mortgage pay down as a alternative us of funds for some of your safe-type money. guaranteed return at a rate no available in the market.

I think it can be viewed as part of your bond portfolio, it is like a synthetic bond of unknown term.

 

[Koolau]

But if early payoff requires pulling $ from tax deferred accounts, because that's where the bulk of one's assets are parked, what is a good strategy for doing so? Is it the same calculation as a Roth conversion, only you put the converted $ toward the mortgage instead of a Roth? Has anyone here done it?

Our mortgage balance is $280,000, which would take $450,000 ballpark to generate the principle and interest payments sustainably at a 4% SWR, so there is some short term appeal to paying it off, which I realize dissipates longer term as that $450,000 "endowment" grows faster than the mortgage payments.

You should seek professional guidance on this, but here is my take: I think the main thing is not to venture too far into the next tax bracket because of your withdrawals - unless you will find yourself in that bracket when RMDs begin. It can get a little complicated because RMDs "accelerate" as you age AND you don't know what future value you will have in your deferred account (performance of your AA will vary.)

Really makes no difference (except the way it's handled) with a Roth or just taking the money - same calculation. You will still owe the taxes on what you take (assuming you're not at zero tax).

Here are at least some of the complicating factors, no matter what you decide to do:

1) You do not know what future tax policy will be.
2) You do not know what performance your funds will have
3) You do not know what "gotchas" may be added or subtracted (see 1)
4) You do not know how long you will live.

1) You do know what your RMD multiplier will be (Assuming it's not changed in the tax code).
2) You do know that there will be AGI gotchas
3) You do know that you are currently "overweighted" in deferred money vs cash or other "already taxed money, e.g., Roths.

What I have been doing is attempting to get to a place where I have more control in the future. If the tax rules change or gotchas change, it's MORE likely that you will wish you had less in deferred and more in non-deferred. Of course, you don't know that for a fact. It's complicated, but I see it as playing the odds. For instance, the Feds could "double tax" your Roths. Probably less likely than more or worse AGI gotchas (they are less visible to the public.)

Again, do research or get help if you don't feel you know the answers or the details involved. Get this right and you might save quite a bit, especially in the future. Still, YMMV.

 

[Cobra9777]

...a mortgage definitely does not display the characteristics of "negative real estate". The amount owing and interest rate is fixed on a mortgage whereas real estate fluctuates in value. Thus a mortgage has many characteristics of being short a bond or "negative bond".

I did not interpret pb4uski's comment to mean the mortgage behaves exactly like real estate in reverse. I took it to mean that the mortgage could be viewed as a contra-asset to the underlying real estate. I think that is exactly how most people intuitively think about it. Theoretically, I think both sides of this argument have considerable merit. But the thing everyone seems to agree on is that the practical effect is mostly academic. There is no compelling new insight as to whether one should pay off the mortgage because the minor changes in AA result in completely inconsequential changes in success rate.

 

[RunningBum]

I did not interpret pb4uski's comment to mean the mortgage behaves exactly like real estate in reverse. I took it to me that the mortgage could be viewed as a contra-asset to the underlying real estate. I think that is exactly how most people intuitively think about it. Theoretically, I think both sides of this argument have considerable merit. But the thing everyone seems to agree on is that the practical effect is mostly academic. There is no compelling new insight as to whether one should pay off the mortgage because the minor changes in AA result in completely inconsequential changes in success rate.

Yeah, but we were talking about risk and AA. It's not even close to right. If you have a risky investment in anything (stock, real estate, whatever), taking a loan against 80% of it does not alleviate the risk at all. Except, I guess, you could walk away from the house if you are underwater, but that has other effects like a bad credit rating.

There are two aspects: how do you classify it, and is it even enough of an impact to worry about. If it's the latter case, no need to classify it, but that's no reason to classify it wrong for someone who it is a larger impact on.